UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
____________________________
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 20122013
Commission File Number 001-31932
_______________________
001-31932
(Exact name of registrant as specified in its charter)
_______________________
Delaware | 88-0464853 |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
11150 Santa Monica Boulevard, Suite 1500, Los Angeles, California 90025
(Address of principal executive offices, including zip code)
(310) 444-4300
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes☑ No☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes☑ No☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer or a smaller reporting company. See definitions of ‘‘accelerated“accelerated filer,” “large accelerated filer,’’ and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer ☐ | Accelerated filer ☐ | Non-accelerated filer ☐ | Smaller reporting company ☑ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes☐ No☑
As of November 14, 2012, there were 73,094,008 shares13, 2013, therewere 18,835,571shares of registrant's common stock, $0.0001 par value, outstanding.
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION | 3 | ||
ITEM 1. Financial Statements | 3 | ||
Condensed Consolidated Balance Sheets as of September 30, | 3 | ||
Condensed Consolidated Statements of Operations for theThree and Nine Months Ended September 30, 2013 and 2012 | 4 | ||
Condensed Consolidated Statements of Cash Flows for theThree and Nine Months Ended September 30, 2013 and 2012 | 5 | ||
Notes to Condensed Consolidated Financial Statements | 6 | ||
ITEM 2. Management's Discussion and Analysis of FinancialCondition and Results of Operations | |||
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk | 26 | ||
ITEM 4. Controls and Procedures | 26 | ||
PART II – OTHER INFORMATION | 28 | ||
ITEM 1. Legal Proceedings | 28 | ||
ITEM 1A. Risk Factors | 28 | ||
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds | 28 | ||
ITEM 3. Defaults Upon Senior Securities | 29 | ||
ITEM 4. Mine Safety Disclosures | 29 | ||
ITEM 5. Other Information | 29 | ||
ITEM 6. Exhibits | 29 | ||
In this report, except as otherwise stated or the context otherwise requires, the terms “we,” “us” or “our” refer to Catasys, Inc. and our wholly-owned subsidiaries. Our common stock, par value $0.0001 per share, is referred to as “common stock.”
PART I - FINANCIAL INFORMATION |
Item 1. Financial Statements
CATASYS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
| (unaudited) | ||||||||
| (In thousands, except for number of shares) | September 30, 2012 | December 31, 2011 | ||||||
| ASSETS | ||||||||
| Current assets | ||||||||
| Cash and cash equivalents | $ | 1,496 | $ | 771 | ||||
| Receivables, net of allowance for doubtful accounts of $0 and $0, respectively | 82 | 52 | ||||||
| Receivables from related party | 142 | 128 | ||||||
| Prepaids and other current assets | 123 | 408 | ||||||
| Total current assets | 1,843 | 1,359 | ||||||
| Long-term assets | ||||||||
| Property and equipment, net of accumulated depreciation of $4,657 and $5,717, respectively | 57 | 89 | ||||||
| Intangible assets, net of accumulated amortization of $2,098 and $2,036, respectively | 1,566 | 1,920 | ||||||
| Deposits and other assets | 205 | 212 | ||||||
| Total Assets | $ | 3,671 | $ | 3,580 | ||||
| LIABILITIES AND STOCKHOLDERS' DEFICIT | ||||||||
| Current liabilities | ||||||||
| Accounts payable | $ | 1,582 | $ | 1,527 | ||||
| Accrued compensation and benefits | 979 | 669 | ||||||
| Deferred revenue | 280 | 59 | ||||||
| Other accrued liabilities | 1,156 | 1,275 | ||||||
| Total current liabilities | 3,997 | 3,530 | ||||||
| Long-term liabilities | ||||||||
| Deferred rent and other long-term liabilities | 18 | 18 | ||||||
| Capital leases | 21 | - | ||||||
| Warrant liabilities | 7,848 | 4,528 | ||||||
| Total liabilities | 11,884 | 8,076 | ||||||
| Stockholders' deficit | ||||||||
| Preferred stock, $0.0001 par value; 50,000,000 shares authorized; no shares issued and outstanding | - | - | ||||||
| Common stock, $0.0001 par value; 500,000,000 and 2,000,000,000 shares authorized at September 30, 2012 and December 31, 2011, respectively; 73,094,008 and 33,901,395 shares issued and outstanding at September 30, 2012 and December 31, 2011, respectively | 87 | 83 | ||||||
| Additional paid-in-capital | 208,486 | 206,313 | ||||||
| Accumulated deficit | (216,786 | ) | (210,892 | ) | ||||
| Total stockholders' deficit | (8,213 | ) | (4,496 | ) | ||||
| Total Liabilities and Stockholders' Deficit | $ | 3,671 | $ | 3,580 | ||||
| (In thousands, except per share amounts) | Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||
| 2012 | 2011 | 2012 | 2011 | |||||||||||||
| Revenues | ||||||||||||||||
| Healthcare services revenues | $ | 100 | $ | 3 | $ | 226 | $ | 13 | ||||||||
| License & Management services revenues | 40 | 54 | 136 | 194 | ||||||||||||
| Total revenues | 140 | 57 | 362 | 207 | ||||||||||||
| Operating expenses | ||||||||||||||||
| Cost of services | 197 | 161 | 618 | 428 | ||||||||||||
| General and administrative | 1,946 | 2,376 | 6,629 | 8,329 | ||||||||||||
| Impairment losses | - | - | 189 | - | ||||||||||||
| Depreciation and amortization | 69 | 85 | 227 | 266 | ||||||||||||
| Total operating expenses | 2,212 | 2,622 | 7,663 | 9,023 | ||||||||||||
| Loss from operations | (2,072 | ) | (2,565 | ) | (7,301 | ) | (8,816 | ) | ||||||||
| Interest and other income | - | - | - | 4 | ||||||||||||
| Interest expense | (1 | ) | (224 | ) | (2,697 | ) | (923 | ) | ||||||||
| Loss on debt extinguishment | - | - | - | (41 | ) | |||||||||||
| Change in fair value of warrant liability | 1,818 | 464 | 4,127 | 8,465 | ||||||||||||
| Loss before provision for income taxes | (255 | ) | (2,325 | ) | (5,871 | ) | (1,311 | ) | ||||||||
| Provision for income taxes | 2 | 2 | 18 | 11 | ||||||||||||
| Net Loss | $ | (257 | ) | $ | (2,327 | ) | $ | (5,889 | ) | $ | (1,322 | ) | ||||
| Basic and diluted net income (loss) per share:* | ||||||||||||||||
| Net loss per share* | $ | (0.00 | ) | $ | (0.11 | ) | $ | (0.12 | ) | $ | (0.08 | ) | ||||
| Weighted number of shares outstanding* | 59,080 | 21,205 | 48,021 | 17,346 | ||||||||||||
(In thousands, except for number of shares) | (unaudited) September 30, 2013 | December 31, 2012 | ||||||
ASSETS | ||||||||
Current assets | ||||||||
Cash and cash equivalents | $ | 422 | $ | 3,153 | ||||
Receivables, net of allowance for doubtful accountsof $9 and $0, respectively | 113 | 69 | ||||||
Receivables from related party | 269 | 173 | ||||||
Prepaids and other current assets | 119 | 227 | ||||||
Total current assets | 923 | 3,622 | ||||||
Long-term assets | ||||||||
Property and equipment, net of accumulated depreciationof $4,501 and $4,668, respectively | 44 | 59 | ||||||
Intangible assets, net of accumulated amortization of$995 and $892, respectively | 945 | 1,048 | ||||||
Deposits and other assets | 175 | 205 | ||||||
Total Assets | $ | 2,087 | $ | 4,934 | ||||
LIABILITIES AND STOCKHOLDERS' DEFICIT | ||||||||
Current liabilities | ||||||||
Accounts payable | $ | 1,268 | $ | 1,642 | ||||
Accrued compensation and benefits | 1,217 | 958 | ||||||
Deferred revenue | 667 | 278 | ||||||
Other accrued liabilities | 1,314 | 1,120 | ||||||
Total current liabilities | 4,466 | 3,998 | ||||||
Long-term liabilities | ||||||||
Deferred rent and other long-term liabilities | - | 18 | ||||||
Capital leases | 18 | 18 | ||||||
Warrant liabilities | 14,196 | 14,658 | ||||||
Total Liabilities | 18,680 | 18,692 | ||||||
Stockholders' deficit | ||||||||
Preferred stock, $0.0001 par value; 50,000,000 shares authorized;no shares issued and outstanding | - | - | ||||||
Common stock, $0.0001 par value; 500,000,000 shares authorized;14,285,569 and 12,022,853 shares issued and outstandingat September 30, 2013 and December 31, 2012, respectively | 2 | 1 | ||||||
Additional paid-in-capital | 209,121 | 208,776 | ||||||
Accumulated deficit | (225,716 | ) | (222,535 | ) | ||||
Total Stockholders' deficit | (16,593 | ) | (13,758 | ) | ||||
Total Liabilities and Stockholders' Deficit | $ | 2,087 | $ | 4,934 | ||||
* The financial statements have been retroactively restated to reflect the 40-for-110-for-1 reverse stock split thatsplitthat occurred on SeptemberMay 6, 2011.
See accompanying notes to the financial statements.
CATASYS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTSTATEMENTS OF CASH FLOWS
(unaudited)
| (In thousands) | Nine Months Ended September 30, | |||||||
| 2012 | 2011 | |||||||
| Operating activities: | ||||||||
| Net loss | $ | (5,889 | ) | $ | (1,322 | ) | ||
| Adjustments to reconcile net income (loss) to net cash used in operating activities: | ||||||||
| Depreciation and amortization | 227 | 266 | ||||||
| Amortization of debt discount and issuance costs included in interest expense | 2,681 | 747 | ||||||
| Loss on debt extinguishment | - | 41 | ||||||
| Provision for doubtful accounts | (4 | ) | 12 | |||||
| Deferred rent | - | (22 | ) | |||||
| Share-based compensation expense | 1,963 | 2,889 | ||||||
| Fair value adjustment on warrant liability | (4,127 | ) | (8,465 | ) | ||||
| Impairment losses | 189 | - | ||||||
| (Gain) or loss on disposition of assets | (1 | ) | 2 | |||||
| Changes in current assets and liabilities: | ||||||||
| Receivables | (40 | ) | (50 | ) | ||||
| Prepaids and other current assets | 24 | 129 | ||||||
| Deferred revenue | 221 | - | ||||||
| Accounts payable and other accrued liabilities | 229 | 666 | ||||||
| Net cash used in operating activities | $ | (4,527 | ) | $ | (5,107 | ) | ||
| Investing activities: | ||||||||
| Proceeds from sales of property and equipment | $ | - | $ | 7 | ||||
| Purchases of property and equipment | - | (18 | ) | |||||
| Deposits and other assets | (3 | ) | (33 | ) | ||||
| Net cash used in investing activities | $ | (3 | ) | $ | (44 | ) | ||
| Financing activities: | ||||||||
| Proceeds from the issuance of common stock and warrants | $ | 4,287 | $ | - | ||||
| Convertible debt and warrants | 975 | 650 | ||||||
| Transaction Costs | - | (16 | ) | |||||
| Capital lease obligations | (7 | ) | (35 | ) | ||||
| Net cash provided by financing activities | $ | 5,255 | $ | 599 | ||||
| Net increase (decrease) in cash and cash equivalents | $ | 725 | $ | (4,552 | ) | |||
| Cash and cash equivalents at beginning of period | 771 | 4,605 | ||||||
| Cash and cash equivalents at end of period | $ | 1,496 | $ | 53 | ||||
| Supplemental disclosure of cash paid | ||||||||
| Income taxes | $ | 93 | $ | 18 | ||||
| Supplemental disclosure of non-cash activity | ||||||||
| Common stock issued for outside services | $ | - | $ | 448 | ||||
| Common stock issued for debt settlement | $ | - | $ | 141 | ||||
| Common stock issued for converson of debt | $ | 975 | $ | 6,143 | ||||
| Common stock issued for services | $ | 309 | $ | 361 | ||||
| Common stock issued for exercise of warrants | $ | - | $ | 9 | ||||
| Beneficial conversion feature related to financing | $ | 253 | $ | 150 | ||||
| Property and equipment acquired through capital leases and other financing | $ | 31 | $ | 18 | ||||
(In thousands, except per share amounts) Three Months Ended September 30, Nine Months Ended September 30, 2013 2012 2013 2012 Revenues Healthcare services revenues License and management services revenues Total revenues Operating expenses Cost of services General and administrative Impairment losses Depreciation and amortization Total operating expenses Loss from operations Interest and other income Interest expense Change in fair value of warrant liability Income/(Loss) from operations before provision for income taxes Provision for income taxes Net Income/(Loss) Basic and diluted net income (loss) per share:* Basic net income (loss) per share* Basic weighted number of shares outstanding* Diluted net income (loss) per share* Diluted weighted number of shares outstanding* $ 109 $ 100 $ 315 $ 226 21 40 83 136 130 140 398 362 221 197 628 618 1,415 1,946 4,651 6,629 - - - 189 42 69 131 227 1,678 2,212 5,410 7,663 (1,548 ) (2,072 ) (5,012 ) (7,301 ) - - - - (1 ) (1 ) (771 ) (2,697 ) 2,231 1,818 2,607 4,127 682 (255 ) (3,176 ) (5,871 ) 2 2 5 18 $ 680 $ (257 ) $ (3,181 ) $ (5,889 ) $ 0.05 $ (0.04 ) $ (0.24 ) $ (1.23 ) 14,286 5,908 13,429 4,802 $ 0.04 $ (0.04 ) $ (0.24 ) $ (1.23 ) 19,364 5,908 13,429 4,802
* The financial statements have been retroactively restated to reflect the 10-for-1 reverse stock splitthat occurred on May 6, 2013.
See accompanying notes to the financial statements.
CATASYS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(unaudited)
(In thousands) | Nine Months Ended September 30, | |||||||
2013 | 2012 | |||||||
Operating activities: | ||||||||
Net loss | $ | (3,181 | ) | $ | (5,889 | ) | ||
Adjustments to reconcile net income (loss) to net cash used in operating activities: | ||||||||
Depreciation and amortization | 131 | 227 | ||||||
Amortization of debt discount and issuance costs included in interest expense | 769 | 2,681 | ||||||
Provision for doubtful accounts | 9 | (4 | ) | |||||
Share-based compensation expense | 165 | 1,963 | ||||||
Fair value adjustment on warrant liability | (2,607 | ) | (4,127 | ) | ||||
Impairment losses | - | 189 | ||||||
(Gain) or loss on disposition of assets | - | (1 | ) | |||||
Changes in current assets and liabilities: | ||||||||
Receivables | (149 | ) | (40 | ) | ||||
Prepaids and other current assets | 137 | 24 | ||||||
Deferred revenue | 389 | 221 | ||||||
Accounts payable and other accrued liabilities | 57 | 229 | ||||||
Net cash used in operating activities | $ | (4,280 | ) | $ | (4,527 | ) | ||
Investing activities: | ||||||||
Deposits and other assets | $ | - | $ | (3 | ) | |||
Net cash used in investing activities | $ | - | $ | (3 | ) | |||
Financing activities: | ||||||||
Proceeds from the issuance of common stock and warrants | $ | 1,535 | $ | 4,287 | ||||
Proceeds from the exercise of warrants | 23 | - | ||||||
Proceeds from financing notes | - | 975 | ||||||
Capital lease obligations | (9 | ) | (7 | ) | ||||
Net cash provided by financing activities | $ | 1,549 | $ | 5,255 | ||||
Net increase (decrease) in cash and cash equivalents | $ | (2,731 | ) | $ | 725 | |||
Cash and cash equivalents at beginning of period | 3,153 | 771 | ||||||
Cash and cash equivalents at end of period | $ | 422 | $ | 1,496 | ||||
Supplemental disclosure of cash paid | ||||||||
Income taxes | $ | 37 | $ | 93 | ||||
Supplemental disclosure of non-cash activity | ||||||||
Common stock issued for converson of debt | $ | - | $ | 975 | ||||
Common stock issued for services | $ | - | $ | 309 | ||||
Common stock issued for exercise of warrants | $ | 156 | $ | - | ||||
Beneficial conversion feature related to financing | $ | - | $ | 253 | ||||
Property and equipment acquired through capital leasesand other financing | $ | 13 | $ | 31 | ||||
See accompanying notes to the financial statements.
Catasys, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(unaudited)
Note 1. Basis of Consolidation, Presentation and Going Concern
The accompanying unaudited interim condensed consolidated financial statements for Catasys, Inc. and our subsidiaries have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and instructions to Form 10-Q and, therefore, do not include all disclosures necessary for a complete presentation of financial position, results of operations, and cash flows in conformity with generally accepted accounting principles.U.S. GAAP. In our opinion, all adjustments, consisting of normal recurring adjustments, considered necessary for a fair presentation have been included. Interim results are not necessarily indicative of the results that may be expected for the entire fiscal year. The accompanying financial information should be read in conjunction with the financial statements and the notes thereto in our most recent Annual Report on Form 10-K, from which the December 31, 20112012 balance sheet have been derived.
Our financial statements have been prepared on the basis that we will continue as a going concern. At September 30, 2012,2013, cash and cash equivalents amounted to $1.5 million$422,000 and we had a working capital deficit of approximately $2.2$3.5 million. On April 17, 2012 and September 17, 2012,In October 2013, we closed on financingsa financing of $3.4 million and $1.7 million, respectively.approximately $2.6 million. We have incurred significant operating losses and negative cash flows from operations since our inception. During the nine months ended September 30, 2012,2013, our cash used in operating activities amounted to $4.5$4.3 million. We anticipate that we could continue to incur negative cash flows and net losses for the next twelve months. The financial statements do not include any adjustments relating to the recoverability of the carrying amount of the recorded assets or the amount of liabilities that might result from the outcome of this uncertainty. As of September 30, 2012,2013, these conditions raised substantial doubt as to our ability to continue as a going concern.
Our ability to fund our ongoing operations and continue as a going concern is dependent on our increasing fees from existing contracts and signing and generating fees from new and existing contracts for our Catasys managed care programs and the success of management’s plans to increase revenue and continue to control expenses. We are operatingoperated our programs in Kansas, Louisiana, Massachusetts, Nevada, and Oklahoma.Oklahoma during the third quarter of 2013. In 2013, we signed two agreements with national health plans to provide services to their members in New Jersey and Ohio, West Virginia, Kentucky, and Indiana, respectively. We commenced enrollment for Humana, one of the national insurers in the fourth quarter of 2013, and we expect to continue to expand enrollment with Humana and commence enrollment with the other national insurer during the fourth quarter of 2013. During the nine months ending September 30, 2012,2013, we launched new programs,have generated increased fees from our existinglaunched programs compared toover the same period in the prior year, and we expect to continue to increase enrollment and fees from our programs throughout this year both from existing programs and the remainder of the year.contracts we signed in 2013. In addition, we have expandedare involved in contract negotiations with other potential customers that we expect to sign in the number of health plan members covered under our programs during the nine months ended September 30, 2012, including the recent addition of additional members from an existing customer in Kansas, and anticipate increasing the number of covered members through the end of the year.fourth quarter. However, there can be no assurance that we will generate increased fees. In addition, we have continuedsuch fees or sign additional contracts. We continue to findlook for areas to reduce our operating expenses.
We and our Chief Executive Officer are party to a litigation in which the plaintiffs assert causes of action for conversion, a request for an order to set aside fraudulent conveyance and breach of contract. While we recently receivedA judgment in our favor was entered by the court in November 2012, however the plaintiff has appealed the judgment. While we believe the plaintiffs’ may appeal these judgments. We believe the claims are without merit and we intend to continue to vigorously defend the case, there can be no assurance that the litigation will be resolved in our favor. If this case is decided against us or our Chief Executive Officer, it may cause us to pay substantial damages, and other related fees. Regardless of whether this litigation is resolved in our favor, any lawsuit to which we are a party will likely be expensive and time consuming to defend or resolve. Costs of defense and any damages resulting from litigation, a ruling against us or a settlement of the litigation could have a significant negative impact on our liquidity, including our cash flows.
Based on the provisions of our management services agreement (“MSA”) between us and our managed professional medical corporation, we have determined that our managed professional medical corporation constitutes a variable interest entity, and that we are the primary beneficiary as defined in Financial Accounting Standards Board (“FASB”) Interpretation No. 46R “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51” (“FIN 46R”). Accordingly, we are required to consolidate the revenue and expenses of our managed professional medical corporation. See Management Services Agreement heading under Note 2, Summary of Significant Accounting Policies, for more discussion.
All intercompany transactions and balances have been eliminated in consolidation.
Note 2. Summary of Significant Accounting Policies
Revenue Recognition
Healthcare Services
Our Catasys contracts are generally designed to provide revenues to us on a monthly basis based on enrolled members or to provide a case rate when members are enrolled and a share of the savings generated from enrolled members. To the extent our contracts may include a minimum performance guarantee, we reserve a portion of the monthly fees that may be at risk until the performance measurement period is completed. To the extent we receive case rates that are not subject to the performance guarantees, we recognize the case rate as ratably over twelve months.
License and Management Services
Our license and management services revenues are primarily derived from licensing our PROMETA Treatment Program and providing administrative services to hospitals, treatment facilities and other healthcare providers, and from revenues generated by our managed treatment center. We record revenues earned based on the terms of our licensing and management contracts, which require the use of judgment, including the assessment of the collectability of receivables. Licensing agreements typically provide for a fixed fee on a per-patient basis, payable to us following the providers’ commencement of the use of our program to treat patients. For revenue recognition purposes, we treat the program licensing and related administrative services as one unit of accounting. We record the fees owed to us under the terms of the agreements at the time we have performed substantially all required services for each use of our program, which for our license agreements is in the period in which the provider begins using the program for medically directed and supervised treatment of a patient.
Cost of Services
Healthcare Services
Cost of healthcare services consists primarily of salaries related to our care coaches, healthcare provider claims payments, and fees charged by our third party administrators for processing these claims. Healthcare services cost of services is recognized in the period in which an eligible member receives services. Our Catasys subsidiary contractsWe contract with various healthcare providers, includingdoctors and licensed behavioral healthcare professionals, on a contracted ratefee-for-services basis. We determine that a member has received services when we receive a claim or in the absence of a claim, by utilizing member data recorded in the OneOnTrakTM database within the contracted timeframe, with all required billing elements correctly completed by the service provider.
License and Management Services
Cost of license and management services representprimarily represents direct costs associated with providing care to patients that are incurred in connection with licensing our treatment programs and providing administrative services in accordance with the various technology license and services agreements, and are associated directly with the revenue that we recognize. Consistent with our revenue recognition policy, the costs associated with providing these services are recognized when services have been rendered, which for our license agreements is in the period in which patient treatment commences, and for our managed treatment center iscenter. Costs are recognized in the periods in which medical treatment is provided. Such costs include, royalties,but are not limited to, direct labor costs, medical supplies and medications.
Cash Equivalents and Concentration of Credit Risk
We consider all highly liquid investments with an original maturity of three months or less to be cash equivalents. Financial instruments that potentially subject us to a concentration of credit risk consist of cash and cash equivalents, and accounts receivable. Cash is deposited with what we believe are highly credited, quality financial institutions. The deposited cash may exceed FDICFederal Deposit Insurance Corporation (“FDIC”) insured limits.
For the nine months ended September 30, 2012,2013, one customer accounted for approximately 54%64% of revenues and fourthree customers accounted for approximately 87%91% of accounts receivable.
Basic and Diluted Income (Loss) per Share
Basic income (loss) per share is computed by dividing the net income (loss) to common stockholders for the period by the weighted average number of common shares outstanding during the period. Diluted income (loss) per share is computed by dividing the net income (loss) for the period by the weighted average number of common and dilutive common equivalent shares outstanding during the period.
Common equivalent shares, consisting of 69,661,3315,077,669 incremental common shares as offor the three months ended September 30, 2012,2013, issuable upon the exercise of stock options and warrants have been excluded fromincluded in the diluted earnings per share calculationcalculation. These shares have not been included for the three and nine month ended September 30, 2012 or the nine months ended September 2013 because their effect is anti-dilutive.
Three Months Ended September 30 Nine Months Ended September 30 (in thousands, except per share amounts) 2013 2012 2013 2012 Numerator Net income (loss) Denominator Weighted-average common shares outstanding Shares used in calculation - basic Shares issuable for stock options and warrants Shares used in calculation - diluted Net income (loss) per share Basic Diluted $ 680 $ (257 ) $ (3,181 ) $ (5,889 ) 14,286 5,908 13,429 4,802 14,286 5,908 13,429 4,802 5,078 - - - 19,364 5,908 13,429 4,802 $ 0.05 $ (0.04 ) $ (0.24 ) $ (1.23 ) $ 0.04 $ (0.04 ) $ (0.24 ) $ (1.23 )
Share-Based Compensation
Our 2010 Stock Incentive Plan, as amended, (the “Plan”), provides for the issuance of up to 18,250,0001,825,000 shares of our common stock. Incentive stock options (ISOs) under Section 422A of the Internal Revenue Code and non-qualified options (NSOs) are authorized under the Plan. We have granted stock options to executive officers, employees, members of our board of directors, and certain outside consultants. The terms and conditions upon which options become exercisable vary among grants, but option rights expire no later than ten years from the date of grant and employee and board of director awards generally vest over three to five years. At September 30, 2012,2013, we had 5,057,000482,177 vested and unvested shares outstanding and 12.6 million1,285,586 shares available for future awards.
Share-based compensation expense attributable to continuing operations amounted to $371,000$48,000 and $2.0 million$165,000 for the three and nine months ended September 30, 2012,2013, compared to $715,000with $371,000 and $2.9$2.0 million, respectively, for the same periods in 2011.2012.
Stock Options – Employees and Directors
We measure and recognize compensation expense for all share-based payment awards made to employees and directors based on estimated fair values on the date of grant. We estimate the fair value of share-based payment awards using the Black Scholes option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the condensed consolidated statements of operations subsequent to January 1, 2006. We account for share-based awards to employees and directors using the intrinsic value method under previous FASB rules, allowable prior to January 1, 2006. Under the intrinsic value method, no share-based compensation expense had been recognized in our consolidated statements of operations for awards to employees and directors because the exercise price of our stock options equaled the fair market value of the underlying stock at the date of grant.
Share-based compensation expense recognized for employees and directors for the three and nine months ended September 30, 2012, amounted to2013, was $47,000 and $141,000, compared with $273,000 and $1.6 million, compared to $668,000 and $2.6 million for the same periods in 2011,2012, respectively.
Share-based compensation expense recognized in our condensed consolidated statements of operations for the three and nine months ended September 30, 20122013 and 20112012, includes compensation expense for share-based payment awards granted prior to, but not yet vested, as of January 1, 2006, based on the grant date fair value estimated in accordance with the pro-forma provisions of Statement of Financial Accounting Standards (“SFAS”) 123, and for the share-based payment awards granted subsequent to January 1, 2006 based on the grant date fair value estimated in accordance with the provisions of the Accounting Standards Codification (“ASC”) 718. For share-based awards issued to employees and directors, share-based compensation is attributed to expense using the straight-line single option method. Share-based compensation expense recognized in our condensed consolidated statements of operations for the three and nine months ended September 30, 20122013 and 20112012, is based on awards ultimately expected to vest, reduced for estimated forfeitures. Accounting rules for stock options require forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.
During the three and nine months ended September 30, 2012,2013, there were no options granted to employees, compared with 0 and 50,000 options granted to employees at the weighted average per share exercise price of $0.44, compared to 0$0.00 and 16,250 options granted to employees at the weighted average per share exercise price of $0.72,$0.44, for the same periods in 2011,2012, respectively. All of the options were issued at the fair market value of our common stock on the date of grant. Employee and director stock option activity for the three and nine months ended September 30, 2012, included grants and cancellations and2013 are as follows:
Shares Weighted Avg. Exercise Price Balance December 31, 2012 Granted Canceled Balance March 31, 2013 Granted Canceled Balance June 30, 2013 Granted Canceled Balance September 30, 2013 486,000 $ 26.46 - $ - (20,000 ) $ 33.72 466,000 $ 22.73 - $ - (1,000 ) $ 39.37 465,000 $ 22.69 - $ - (4,000 ) $ 379.44 461,000 $ 19.59
| Shares | Weighted Avg. Exercise Price | |||||||
| Balance December 31, 2011 | 4,808,000 | $ | 4.74 | |||||
| Granted | 50,000 | $ | 0.44 | |||||
| Cancelled | (2,000 | ) | $ | 1.60 | ||||
| Balance March 31, 2012 | 4,856,000 | $ | 4.70 | |||||
| Granted | - | $ | - | |||||
| Cancelled | - | $ | - | |||||
| Balance June 30, 2012 | 4,856,000 | $ | 4.70 | |||||
| Granted | - | $ | - | |||||
| Cancelled | (20,000 | ) | $ | 1.60 | ||||
| Balance September 30, 2012 | 4,836,000 | $ | 4.71 | |||||
The expected volatility assumptions have been based on the historical and expected volatility of our stock, measured over a period generally commensurate with the expected term. The weighted average expected option term for the three and nine months ended September 30, 20122013 and 2011,2012, reflects the application of the simplified method prescribed in SEC Staff Accounting Bulletin (“SAB”) No. 107 (and as amended by SAB 110), which defines the life as the average of the contractual term of the options and the weighted average vesting period for all option tranches.
As of September 30, 2012,2013, there was $446,000$92,000 of total unrecognized compensation costs related to non-vested share-based compensation arrangements granted under the Plan. That cost is expected to be recognized over a weighted-average period of approximately 1.710.94 years.
Stock Options and Warrants – Non-employees
We account for the issuance of options and warrants tofor services from non-employees for services by estimating the fair value of warrants issued using the Black-Scholes pricing model. This model’s calculations include the option or warrant exercise price, the market price of shares on grant date, the weighted average risk-free interest rate, the expected life of the option or warrant, and the expected volatility of our stock and the expected dividends.
For options and warrants issued as compensation to non-employees for services that are fully vested and non-forfeitable at the time of issuance, the estimated value is recorded in equity and expensed when the services are performed and benefit is received. For unvested shares, the change in fair value during the period is recognized in expense using the graded vesting method.
There were no options issued to non-employees for the three and nine months ended September 30, 2013 and 2012, compared to 0 and 208,600 options issued at a strike price of $0 and $2.84 as compensation for consulting services for the same periods in 2011, respectively. For the three and nine months ended September 30, 2012 and 2011, share-basedShare-based compensation expense relating to stock options and warrants recognized for non-employees amounted to $1,000 and $23,000 for the three and nine months ended September 30, 2013, and $61,000 and $81,000 for the three and $6,000 and $39,000,nine months ended September 30, 2012, respectively.
Non-employee stock option activity for the three and nine months ended September 30, 2012:
Shares Weighted Avg. Exercise Price Balance December 31, 2012 Canceled Balance March 31, 2013 Canceled Balance June 30, 2013 Canceled Balance September 30, 2013 22,000 $ 48.97 (1,000 ) $ 1,953.03 21,000 $ 45.72 - $ - 21,000 $ 45.72 - $ - 21,000 $ 28.40
| Shares | Weighted Avg. Exercise Price | |||||||
| Balance December 31, 2011 | 221,000 | $ | 9.98 | |||||
| Granted | - | $ | - | |||||
| Balance March 31, 2012 | 221,000 | $ | 9.98 | |||||
| Granted | - | $ | - | |||||
| Balance June 30, 2012 | 221,000 | $ | 9.98 | |||||
| Granted | - | $ | - | |||||
| Balance September 30, 2012 | 221,000 | $ | 9.98 | |||||
Common Stock
In April 2012,2013, we entered into securities purchase agreements (the “April Agreements”) with several investors, including Crede CG II, Ltd. (formerly Socius Capital Group, LLC)LLC (“Crede”), an affiliate of Terren S. Peizer, our Chairman and Chief Executive Officer of the Company, and David Smith, oneShamus, LLC (“Shamus”), an affiliate of our affiliates,the Company, relating to the sale and issuance of an aggregate of 21,440,0502,192,857 shares of common stock and warrants (the “April Warrants”) to purchase an aggregate of 21,440,0502,192,857 shares of common stock at an exercise price of $0.16$0.70 per share for an aggregate gross proceedproceeds of approximately $3,430,000$1.5 million (the “April Offering”).
There were no shares of common stock originally purchased by such investor and still held by the investor asissued in exchange for various services or settlement of the last day of the VWAP Period, and (b) the number of shares originally purchased by such investor and still held by such Investor as of the last day of the VWAP Period multiplied by the percentage decline in the VWAPclaims during the VWAP Period. All prices and number of shares of common stock shall be adjusted for the Reverse Split and any other stock splits or stock dividends.
Income Taxes
We have recorded a full valuation allowance against itsour otherwise recognizable deferred tax assets as of September 30, 2012.2013. As such, the Company haswe have not recorded a provision for income tax for the period ended September 30, 2012. The Company utilizes2013. We utilize the liability method of accounting for income taxes as set forth in ASC 740. Under the liability method, deferred taxes are determined based on the temporary differences between the financial statement and tax basis of assets and liabilities using tax rates expected to be in effect during the years in which the basis differences reverse. A valuation allowance is recorded when it is more likely than not that some of the deferred tax assets will not be realized. In determining the need for valuation allowances the Company considerswe consider projected future taxable income and the availability of tax planning strategies. After evaluating all positive and negative historical and perspective evidences, management has determined it is more likely than not that the Company'sour deferred tax assets will not be recognized.
We assess our income tax positions and recordsrecord tax benefits for all years subject to examination based upon the Company’sour evaluation of the facts, circumstances and information available at the reporting date. For those tax positions where there is a greater than 50% likelihood that a tax benefit will be sustained, the Company haswe have recorded the largest amount of tax benefit that may potentially be realized upon ultimate settlement with a taxing authority that has full knowledge of all relevant information. For those income tax positions where there is less than 50% likelihood that a tax benefit will be sustained, no tax benefit has been recognized in the financial statements. Based on management's assessment of the facts, circumstances and information available, management has determined that all of the tax benefits for the period ended September 30, 20122013 should be recognized.
Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Assets and liabilities recorded at fair value in the condensed consolidated balance sheets are categorized based upon the level of judgment associated with the inputs used to measure fair value. The fair value hierarchy distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (unobservable outputs)inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1)I) and the lowest priority to unobservable inputs (Level 3)III). The three levels of the fair value hierarchy are described below:
Level Input: | Input Definition: | |
Level I | Inputs are unadjusted, quoted prices for identical assets or liabilities in active markets at the measurement date. | |
Level II | Inputs, other than quoted prices included in Level I, that are observable for the asset or liability through corroboration with market data at the measurement date. | |
Level III | Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. |
The following table summarizes fair value measurements by level at September 30, 2012,2013 for assets and liabilities measured at fair value:
| 2012 | ||||||||||||||||
| (Dollars in thousands) | Level I | Level II | Level III | Total | ||||||||||||
| Certificates of deposit | $ | 175 | $ | - | $ | - | $ | 175 | ||||||||
| Total assets | $ | 175 | $ | - | $ | - | $ | 175 | ||||||||
| Warrant liabilities | $ | - | $ | - | $ | 7,848 | $ | 7,848 | ||||||||
| Total liabilities | $ | - | $ | - | $ | 7,848 | $ | 7,848 | ||||||||
2013 (in thousands) Level I Level II Level III Total Certificates of deposit Total assets Warrant liabilities Total liabilities $ 175 $ - $ - $ 175 $ 175 $ - $ - $ 175 $ - $ - $ 14,196 $ 14,196 $ - $ - $ 14,196 $ 14,196
Financial instruments classified as Level 3III in the fair value hierarchy as of September 30, 2012,2013, represent our liabilities measured at market value on a recurring basis which include warrant liabilities resulting from recent debt and equity financings. In accordance with current accounting rules, the warrant liabilities are being marked-to-market each quarter-end until they are completely settled. The warrants are valued using the Black-Scholes option-pricing model, using both observable and unobservable inputs and assumptions consistent with those used in our estimate of fair value of employee stock options. SeeWarrant Liabilities below.
The following table summarizes our fair value measurements using significant Level III inputs, and changes therein, for the three and nine months ended September 30, 2012:
(Dollars in thousands) Level III Warrant Liabilities Balance as of December 31, 2012 Reclassification to equity Change in fair value Net realized gains (losses) Balance as of March 31, 2013 Reclassification to equity Change in fair value Net purchases (sales) Net realized gains (losses) Balance as of June 30, 2013 Reclassification to equity Change in fair value Net purchases (sales) Net unrealized gains (losses) Balance as of September 30, 2013 $ 14,658 (129 ) (4,360 ) - $ 10,169 (27 ) 3,985 2,301 - $ 16,428 - (2,232 ) - - $ 14,196
| (Dollars in thousands) | Level III Warrant | |||
| Balance as of December 31, 2011 | $ | 4,528 | ||
| Issuance of warrants | 545 | |||
| Change in fair value | (37 | ) | ||
| Net purchases (sales) | - | |||
| Net unrealized gains (losses) | - | |||
| Net realized gains (losses) | - | |||
| Balance as of March 31, 2012 | $ | 5,036 | ||
| Issuance of warrants | 5,368 | |||
| Change in fair value | (2,272 | ) | ||
| Net purchases (sales) | - | |||
| Net unrealized gains (losses) | - | |||
| Net realized gains (losses) | - | |||
| Balance as of June 30, 2012 | $ | 8,132 | ||
| Issuance of warrants | 1,534 | |||
| Change in fair value | (1,818 | ) | ||
| Net purchases (sales) | - | |||
| Net unrealized gains (losses) | - | |||
| Net realized gains (losses) | - | |||
| Balance as of September 30, 2012 | $ | 7,848 | ||
As of September 30, 2012,2013, the gross and net carrying amounts of intangible assets that are subject to amortization are as follows:
| (In thousands) | Gross Carrying | Accumulated Amortization | Net Balance | Amortization Period | ||||||||||||
| Intellectual property | $ | 3,664 | $ | (2,098 | ) | $ | 1,566 | 8 | ||||||||
(In thousands) Gross Carrying Amount Accumulated Amortization Net Balance Amortization Period (in years) Intellectual property $ 1,940 $ (995 ) $ 945 8
During the three and nine months ended September 30, 2012,2013, we did not acquire any new intangible assets and at September 30, 2012,2013, all of our intangible assets consisted of intellectual property, which is not subject to renewal or extension. At December 31, 2011, we determined that the carrying value of certainWe had no intangible assets was not recoverable and exceeded the fair value based on the five-year revenue projections and other assumptions. During the year ended December 31, 2011, we recorded impairment charges totaling $267,000 related to intellectual property for additional indications for the use of the PROMETA Treatment Program that is currently non-revenue generating. As of March 31, 2012, we determined that the remaining lives of certain intangibles exceeded their economic useful livesthree and therefore accelerated amortization and recorded annine months ended September 30, 2013. We had no intangible impairment charge of $34,000. Forfor the three months ended JuneSeptember 30, 2012 we revisited our intentions to continue doing business internationally and concluded that we would not be pursuing any international opportunities at this time. As such, we wrote off all intangibles related to our international Cayman entity and recorded an impairment loss of $155,000.
Additionally, it is important to note that our overall business model, business operations and future prospects of our business have not changed materially since we performed the reviews and analysis noted above, with the exception of the timing, and annualized amounts of expected revenue.
Estimated remaining amortization expense for intangible assets for the current year and each of the next five years ending December 31 is as follows:
| (In thousands) | ||||
| Year | Amount | |||
| 2012 | $ | 51 | ||
| 2013 | $ | 204 | ||
| 2014 | $ | 204 | ||
| 2015 | $ | 204 | ||
| 2016 | $ | 204 | ||
(In thousands) Year Amount 2013(3 months) 2014 2015 2016 2017 $ 33 $ 132 $ 132 $ 132 $ 132
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation. Additions and improvements to property and equipment are capitalized at cost. Expenditures for maintenance and repairs are charged to expense as incurred. Depreciation is computed using the straight-line method over the estimated useful lives of the related assets, which range from two to seven years for furniture and equipment. Leasehold improvements are amortized over the lesser of the estimated useful lives of the assets or the related lease term, which is typically five to seven years.
Variable Interest Entities
Generally, an entity is defined as a Variable Interest Entity (“VIE”) under current accounting rules if it has (a) equity that is insufficient to permit the entity to finance its activities without additional subordinated financial support from other parties, or (b) equity investors that cannot make significant decisions about the entity’s operations, or that do not absorb the expected losses or receive the expected returns of the entity. When determining whether an entity that is a business qualifies as a VIE, we also consider whether (i) we participated significantly in the design of the entity, (ii) we provided more than half of the total financial support to the entity, and (iii) substantially all of the activities of the VIE either involve us or are conducted on our behalf. A VIE is consolidated by its primary beneficiary, which is the party that absorbs or receives a majority of the entity’s expected losses or expected residual returns.
As discussed under the heading Management Services Agreementbelow, we have an MSA with a managed medical corporation. Under this MSA, the equity owner of the affiliated medical group has only a nominal equity investment at risk, and we absorb or receive a majority of the entity’s expected losses or expected residual returns. We participate significantly in the design of this MSA. We also agree to provide working capital loans to allow for the medical group to pay for its obligations. Substantially all of the activities of this managed medical corporation either involve us or are conducted for our benefit, as evidenced by the factsfact that (i) the operations of the managed medical corporation are conducted primarily using our licensed protocols and (ii) under the MSA, we agree to provide and perform all non-medical management and administrative services for the medical group. Payment of our management fee is subordinate to payments of the obligations of the medical group, and repayment of the working capital loans is not guaranteed by the equity owner of the affiliated medical group or other third party. Creditors of the managed medical corporation do not have recourse to our general credit.
Based on the design and provisions of this MSA and the working capital loans provided to the medical group, we have determined that the managed medical corporation is a VIE, and that we are the primary beneficiary as defined in the current accounting rules. Accordingly, we are required to consolidate the revenues and expenses of the managed medical corporation.
Management Services Agreement
We have onean executed MSA with a medical professional corporation and related treatment center. Under the MSA, we license to the medical professional corporationtreatment center the right to use our proprietary treatment programs and related trademarks and provide all required day-to-day business management services, including, but not limited to:
● | general administrative support services; |
● | information systems; |
● | recordkeeping; |
● | scheduling; |
● | billing and collection; |
● | marketing and local business development; and |
● | obtaining and maintaining all federal, state and local licenses, certifications and regulatory permits. |
The medical professional corporationtreatment center retains the sole right and obligation to provide medical services to its patients and to make other medically related decisions, such as the choice of medical professionals to hire or medical equipment to acquire and the ordering of drugs.
In addition, we provide office space to the medical professional corporationtreatment center on a non-exclusive basis, and we are responsible for all costs associated with rent and utilities. The medical professional corporationtreatment center pays us a monthly fee equal to the aggregate amount of (a) our costs of providing management services (including reasonable overhead allocable to the delivery of our services and including salaries, rent, equipment, and tenant improvements incurred for the benefit of the medical group, provided that any capitalized costs will be amortized over a five-year period), (b) 10%-15% of the foregoing costs, and (c) any performance bonus amount, as determined by the treatment center at its sole discretion. The treatment center’s payment of our fee is subordinate to payment of the treatment center's obligations, including physician fees and medical group employee compensation.
We have also agreed to provide a credit facility to the medical professional corporationtreatment center to be available as a working capital loan, with interest at the Prime Rate plus 2%. Funds are advanced pursuant to the terms of the MSA described above. The notes are due on demand or upon termination of the MSA. At September 30, 2012,2013, there was one outstanding credit facility under which $12.1$12.9 million was outstanding. Our maximum exposure to loss could exceed this amount, and cannot be quantified as it is contingent upon the amount of losses incurred by the respective treatment center that we are required to fund under the credit facility.
Under the MSA, the equity owner of the affiliated medical professional corporationtreatment center has only a nominal equity investment at risk, and we absorb or receive a majority of the entity’s expected losses or expected residual returns. We also agree to provide working capital loans to allow for the treatment center to pay for its obligations. Substantially all of the activities of the managed medical corporation either involves us or are conducted for our benefit, as evidenced by the facts that (i) the operations of the managed medical corporation is conducted primarily using our licensed protocols and (ii) under the MSA, we agree to provide and perform all non-medical management and administrative services for the treatment center. Payment of our management fee is subordinate to payments of the obligations of the treatment center, and repayment of the working capital loanloans is not guaranteed by the equity owner of the affiliated medical professional corporationtreatment center or other third party. Creditors of the managed medical corporation do not have recourse to our general credit. Based on these facts, we have determined that the managed medical corporation is a VIE and that we are the primary beneficiary as defined in current accounting rules. Accordingly, we are required to consolidate the assets, liabilities, revenues and expenses of the managed treatment center.
The amounts and classification of assets and liabilities of the VIE included in our Condensed Consolidated Balance Sheetscondensed consolidated balance sheets as of September 30, 20122013 and December 31, 2011,2012, are as follows:
| (in thousands) | September 30, 2012 | December 31, 2011 | ||||||
| Cash and cash equivalents | $ | 13 | $ | 28 | ||||
| Receivables, net | 19 | 14 | ||||||
| Total assets | $ | 32 | 42 | |||||
| Accounts payable | 16 | 16 | ||||||
| Note payable to Catasys, Inc. | 12,049 | 11,365 | ||||||
| Total liabilities | $ | 12,065 | 11,381 | |||||
(in thousands) September 30, 2013 (audited) December 31, 2012 Cash and cash equivalents Receivables, net Total assets Accounts payable Note payable to Catasys, Inc. Total liabilities $ 3 $ 11 25 19 $ 28 30 13 15 12,904 12,267 $ 12,917 12,282
Warrant Liabilities
In April 2012, we and Crede agreed to increase the outstanding principal amount under the Bridge Note to $975,000. In connection therewith, we amended the Bridge Warrant to allow for the purchase of an additional 666,666 shares of common stock. The Bridge Warrant expires on February 22, 2017 and contains anti-dilution provisions. As a result, if we, in the future, issue or grant any rights to purchase any of our common stock, or other security convertible into our common stock, for a per share price less than the exercise price of the Bridge Warrant, the exercise price of the Bridge Warrant will be reduced to such lower price, subject to customary exceptions.
The April Warrants expire in April 2017,2018, and contain anti-dilution provisions. As a result, if we, in the future, issue or grant any rights to purchase any of our common stock, or other securities convertible into our common stock, for a per share price less than the exercise price of the April Warrants, the exercise price of the April Warrants will be reduced to such lower price, subject to customary exceptions. In the event that Adjustment Shares are issued, the number of shares that may be purchased under the April Warrants shall be increased by an amount equal to the Adjustment Shares. In addition, the exercise price is subject to adjustment in the event that the VWAP during the VWAP period is less than the exercise price prior to the VWAP Period.
We have issued warrants to purchase an aggregate of 120,000 shares of common stock at an exercise price of $0.16 per share associated with financing costs.
For the three and nine months ended September 30, 2012,2013, we recognized a non-operating gain of $2.2 million and $2.6 million, compared with a non-operating gain of $1.8 million and $4.1 million compared to a non-operating gain of $464,000 and $8.5 million for the same periods in 2011,2012, respectively, related to the revaluation of our warrant liabilities.
Recently Issued or Newly Adopted Accounting Standards
In MayDecember 2011, the FASB issued Accounting Standards Update (“ASU”) 2011-04, Fair Value Measurement (“ASU 2011-04”), which amended ASC 820, Fair Value Measurements (“ASC 820”), providing a consistent definition and measurement of fair value, as well as similar disclosure requirements between U.S. GAAP and International Financial Reporting Standards. ASU 2011-04 changes certain fair value measurement principles, clarifies the application of existing fair value measurement and expands the disclosure requirements. ASU 2011-04 was effective for us beginning January 1, 2012. The adoption of ASU 2011-04 did not have a material effect on our condensed consolidated financial statements or disclosures.
In February 2013, the FASB issued ASU 2013-02,Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income, (“ASU 2013-02”). ASU 2013-02 amends ASC 220,Comprehensive Income (“ASC 220”), and requires entities to present the changes in the components of accumulated other comprehensive income for the current period. Entities are required to present separately the amount of the change that is due to reclassifications, and the amount that is due to current period other comprehensive income. These changes are permitted to be shown either before or net-of-tax and can be displayed either on the face of the financial statements or in the footnotes. ASU 2013-02 was effective for our interim and annual periods beginning January 1, 2013. The adoption of ASU 2013-02 did not have any impacta material effect on our consolidated financial position or results of operations or cash flows.operations.
In July 2012,2013, the FASB issued ASU 2012-02, Testing Indefinite-Lived Intangible Assets for Impairment2013-11,Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists, (“ASU 2013-02”), which amendedeliminates diversity in practice for the guidancepresentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss or a tax credit carryforward is available to reduce the taxable income or tax payable that would result from disallowance of a tax position. ASU 2013-11 affects only the presentation of such amounts in ASU 2011-08 to simplify the testing of indefinite-lived intangible assets other than goodwill for impairment. ASU 2012-02 becomesan entity’s balance sheet and is effective for annual and interim impairment tests performed for fiscal years beginning on or after SeptemberDecember 15, 20122013 and earlierinterim periods within those years. Early adoption is permitted. We do not expect this guidance to haveare evaluating the impact, if any, impactof the adoption of ASU 2013-11 on our consolidated financial position, results of operations or cash flows.balance sheet.
Note 3. Segment Information
We manage and report our operations through two business segments: healthcare services and license and management services. We evaluate segment performance based on total assets, revenue and income or loss before provision for income taxes. Our assets are included within each discrete reporting segment. In the event that any services are provided to one reporting segment by the other, the transactions are valued at the market price. No such services were provided during the three and nine months ended September 30, 20122013 and 2011.2012. Summary financial information for our two reportable segments are as follows:
| (in thousands) | Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||
| 2012 | 2011 | 2012 | 2011 | |||||||||||||
| Healthcare services | ||||||||||||||||
| Revenues | $ | 100 | $ | 3 | $ | 226 | $ | 13 | ||||||||
| Income/(loss) before provision for income taxes | 66 | (1,922 | ) | (4,714 | ) | (235 | ) | |||||||||
| Assets * | 2,068 | 673 | 2,068 | 673 | ||||||||||||
| License & Management services | ||||||||||||||||
| Revenues | $ | 40 | $ | 54 | $ | 136 | $ | 194 | ||||||||
| Loss before provision for income taxes | (321 | ) | (403 | ) | (1,157 | ) | (1,076 | ) | ||||||||
| Assets * | 1,603 | 2,371 | 1,603 | 2,371 | ||||||||||||
| �� | ||||||||||||||||
| Consolidated continuing operations | ||||||||||||||||
| Revenues | $ | 140 | $ | 57 | $ | 362 | $ | 207 | ||||||||
| Income/(loss) before provision for income taxes | (255 | ) | (2,325 | ) | (5,871 | ) | (1,311 | ) | ||||||||
| Assets * | 3,671 | 3,044 | 3,671 | 3,044 | ||||||||||||
(in thousands) Three Months Ended September 30, Nine Months Ended September 30, 2013 2012 2013 2012 Healthcare services Revenues Income (loss) before provision for income taxes Assets * License and management services Revenues Loss before provision for income taxes Assets * Consolidated continuing operations Revenues Income (loss) before provision for income taxes Assets * $ 109 $ 100 $ 315 $ 226 $ 924 $ 66 $ (2,441 ) $ (4,714 ) 1,117 2,068 1,117 2,068 $ 21 $ 40 $ 83 $ 136 $ (242 ) $ (321 ) $ (735 ) $ (1,157 ) 970 1,603 970 1,603 $ 130 $ 140 $ 398 $ 362 $ 682 $ (255 ) $ (3,176 ) $ (5,871 ) 2,087 3,671 2,087 3,671
* Assets are reported as of September 30.
Healthcare Services
Catasys’ integrated substance dependence solutions combine innovative medical and psychosocial treatments with elements of traditional disease management, case management and ongoing member support to help organizations treat and manage substance dependent populations to impact healthcareboth the medical and behavioral health costs associated with substance dependence and the related co-morbidities.
We are currently marketing our integrated substance dependence solutions to managed care health plans on a case rate, or monthly fee basis, or fee-for-service basis, which involves educating third party payors on the disproportionately high cost of their substance dependent population and demonstrating the potential for improved clinical outcomes and reduced cost associated with using our Catasys programs. We haveare operating our programs in Nevada, Kansas, Massachusetts, Louisiana, and Oklahoma.
The following table summarizes the operating results for Healthcare Services for the three and nine months ended September 30, 20122013 and 2011:
| (in thousands) | Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||
| 2012 | 2011 | 2012 | 2011 | |||||||||||||
| Revenues | $ | 100 | $ | 3 | $ | 226 | $ | 13 | ||||||||
| Operating Expenses | ||||||||||||||||
| Cost of healthcare services | $ | 135 | $ | 27 | $ | 427 | $ | 262 | ||||||||
| General and administrative expenses | ||||||||||||||||
| Salaries and benefits | 1,187 | 1,477 | 4,275 | 5,445 | ||||||||||||
| Other expenses | 531 | 661 | 1,662 | 2,046 | ||||||||||||
| Depreciation and amortization | (2 | ) | 1 | 6 | 3 | |||||||||||
| Total operating expenses | $ | 1,851 | $ | 2,166 | $ | 6,370 | $ | 7,756 | ||||||||
| Loss from operations | $ | (1,751 | ) | $ | (2,163 | ) | $ | (6,144 | ) | $ | (7,743 | ) | ||||
| Interest and other income | - | - | - | 4 | ||||||||||||
| Interest expense | (1 | ) | (223 | ) | (2,697 | ) | (920 | ) | ||||||||
| Loss on debt extinguishment | - | - | - | (41 | ) | |||||||||||
| Change in fair value of warrant liabilities | 1,818 | 464 | 4,127 | 8,465 | ||||||||||||
| Income/(loss) before provision for income taxes | $ | 66 | $ | (1,922 | ) | $ | (4,714 | ) | $ | (235 | ) | |||||
(in thousands) Three Months Ended September 30, Nine Months Ended September 30, 2013 2012 2013 2012 Revenues Operating Expenses Cost of healthcare services General and administrative expenses Salaries and benefits Other expenses Depreciation and amortization Total operating expenses Loss from operations Interest and other income Interest expense Change in fair value of warrant liabilities Income/(loss) before provision for income taxes $ 109 $ 100 $ 315 $ 226 $ 162 $ 135 $ 454 $ 427 916 1,187 2,874 4,275 330 531 1,246 1,662 7 (2 ) 18 6 $ 1,415 $ 1,851 $ 4,592 $ 6,370 $ (1,306 ) $ (1,751 ) $ (4,277 ) $ (6,144 ) - - - - (1 ) (1 ) (771 ) (2,697 ) 2,231 1,818 2,607 4,127 $ 924 $ 66 $ (2,441 ) $ (4,714 )
License and Management Services
Our license and management services segment licensesprimarily represents our proprietary treatment program to physicians. Also included in this segment is a licensed and managed treatment center,office, which offers a range of addiction treatment and mental health services.
The following table summarizes the operating results for License and Management Services for the three and nine months September 30, 20122013 and 2011:
(In thousands) Three months ended September 30, Nine months ended September 30, 2013 2012 2013 2012 Revenues U.S. licensees Managed treatment center Total license and management revenues Operating expenses Cost of license and management services General and administrative expenses Salaries and benefits Other expenses Impairment losses Depreciation and amortization Total operating expenses Loss from operations Interest and other income Interest expense Loss before provision for income taxes $ - $ - $ 6 $ 14 21 40 77 122 $ 21 $ 40 $ 83 $ 136 $ 59 $ 63 $ 174 $ 191 114 150 358 465 55 77 173 227 - - - 189 35 71 113 221 $ 263 $ 361 $ 818 $ 1,293 $ (242 ) $ (321 ) $ (735 ) $ (1,157 ) - - - - - - - - $ (242 ) $ (321 ) $ (735 ) $ (1,157 )
| (In thousands, except patient treatment data) | Three months ended September 30, | Nine months ended September 30, | ||||||||||||||
| 2012 | 2011 | 2012 | 2011 | |||||||||||||
| Revenues | ||||||||||||||||
| U.S. licensees | $ | - | $ | 16 | $ | 14 | $ | 57 | ||||||||
| Managed treatment centers | 40 | 38 | 122 | 137 | ||||||||||||
| Total license and management revenues | $ | 40 | $ | 54 | $ | 136 | $ | 194 | ||||||||
| Operating expenses | ||||||||||||||||
| Cost of license and management services | $ | 63 | $ | 133 | $ | 191 | $ | 165 | ||||||||
| General and administrative expenses | ||||||||||||||||
| Salaries and benefits | 150 | 145 | 465 | 521 | ||||||||||||
| Other expenses | 77 | 94 | 227 | 318 | ||||||||||||
| Impairment losses | - | - | 189 | - | ||||||||||||
| Depreciation and amortization | 71 | 84 | 221 | 263 | ||||||||||||
| Total operating expenses | $ | 361 | $ | 456 | $ | 1,293 | $ | 1,267 | ||||||||
| Loss from operations | $ | (321 | ) | $ | (402 | ) | $ | (1,157 | ) | $ | (1,073 | ) | ||||
| Interest expense | - | (1 | ) | - | (3 | ) | ||||||||||
| Loss before provision for income taxes | $ | (321 | ) | $ | (403 | ) | $ | (1,157 | ) | $ | (1,076 | ) | ||||
Note 5.4. Related Party Disclosure
In December 2010, we entered into a related party receivable from Sabra ICG,three-year sublease agreement with Xoftek, Inc., an affiliate of Terren S. Peizer, our Chairman and Chief Executive Officer in the amount(“CEO”), to sublease approximately one-third of $142,000our office space for a three-year term for a monthly rent of approximately $11,000 per month. The related party receivable as of September 30, 2013 and December 31, 2012 which represents rent due under a January 1, 2011 sublease agreement. Rent under the sublease was $32,000$269,000 and $95,000 for the three and nine months ended$173,000, respectively. We have received approximately $81,000 in payments through September 30, 2012, respectively. Sublease income is reflected as2013.
Crede, an affiliate of our Chairman and CEO, and Shamus, an affiliate of the Company, participated in our April 2013 Offering. They received approximately 2,055,715 shares of common stock and warrants to purchase an aggregate 2,055,715 shares of common stock at a reduction to rent expense.
Note 6.5. Restatement of Financial Statements
The financial statements have been retroactively restated to reflect the 40-for-110-for-1 reverse stock split that occurred on SeptemberMay 6, 2011.2013.
Note 6. Subsequent Events
In October 2013, we entered into securities purchase agreements with several investors, including Crede CG III, Ltd. (“Crede III”), an affiliate of Terren S. Peizer, Chairman and Chief Executive Officer of the Company, and Shamus, an affiliate of the Company, relating to the sale and issuance of an aggregate of 4,550,002 shares of common stock, and warrants (the “October Warrants”) to purchase an aggregate of 4,550,002 shares of Common Stock at an exercise price of $0.58 per share for aggregate gross proceeds of approximately $2.6 million. The October Warrants expire in October 2018, and contain anti-dilution provisions. As a result, if we, in the future, issue or grant any rights to purchase any of our Common Stock, or other security convertible into our Common Stock, for a per share price less than the exercise price of the October Warrants, the exercise price of the October Warrants will be reduced to such lower price, subject to customary exceptions.
Among other things, the Agreements provide that in the event that the Company effectuates a reverse stock split of its Common Stock within 24 months of the closing date of the Offering (the “Reverse Split”) and the volume weighted average price (“VWAP”) of the Common Stock during the 20 trading days following the effective date of the Reverse Split (the “VWAP Period”) declines from the closing price on the trading date immediately prior to the effective date of the Reverse Split, that the Company issue additional shares of Common Stock (the “Adjustment Shares"). The number of Adjustment Shares shall be calculated as the lesser of (a) 20% of the number of shares of Common Stock originally purchased by such investor and still held by the investor as of the last day of the VWAP Period, and (b) the number of shares originally purchased by such investor and still held by such investor as of the last day of the VWAP Period multiplied by the percentage decline in the VWAP during the VWAP Period. All prices and number of shares of Common Stock shall be adjusted for the Reverse Split and any other stock splits or stock dividends.
In November 2013, we signed an office lease for new corporate offices located in Los Angeles, California.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of our financial condition and results of operations should be read in conjunction with our financial statements including the related notes, and the other financial information included in this report.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING INFORMATION
This report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 with respect to the financial condition, results of operations, business strategies, operating efficiencies or synergies, competitive positions, growth opportunities for existing products, plans and objectives of management, markets for stock of Catasys and other matters. Statements in this report that are not historical facts are hereby identified as “forward-looking statements” for the purpose of the safe harbor provided by Section 21E of the Exchange Act of 1934 and Section 27A of the Securities Act of 1933. Such forward-looking statements, including, without limitation, those relating to the future business prospects, our revenue and income, wherever they occur, are necessarily estimates reflecting the best judgment of our senior management onas of the date on which they were made, or if no date is stated, as of the date of this report. These forward-looking statements are subject to risks, uncertainties and assumptions, including those described in the “Risk Factors” in Item 1A of Part I of our most recent Annual Report on Form 10-K (“Form 10-K”) for the fiscal year ended December 31, 20112012 and other reports we filefiled with the Securities and Exchange Commission (“SEC”), that may affect the operations, performance, development and results of our business. Because the factors discussed in this report could cause actual results or outcomes to differ materially from those expressed in any forward-looking statements made by us or on our behalf, you should not place undue reliance on any such forward-looking statements. New factors emerge from time to time, and it is not possible for us to predict which factors will arise. In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. We assume no obligation and do not intend to update these forward looking statements, except as required by law.
OVERVIEW
General
We are a healthcare services company, providing specialized health services designed to assist health plans employers and unionsother third party payors to manage and treat their high cost substance dependence members through a network of healthcare providers and our employees. The OnTrak substance dependence program was designed to address substance dependence as a chronic disease. The program seeks to lower costs and improveby improving member health through the delivery of integrated medical and psychosocial interventions in combination with long term “care coaching.” We also offer the Company’s proprietary treatment for alcoholism and stimulant dependence on a private-pay basis through licensed treatment providers andhave a company managed treatment centerpsychiatry practice that also offers othera variety of mental health services.and substance dependence treatments primarily on a fee-for-service basis out of our offices and via telephonic psychiatry.
Operations
In the third quarter of 2013 we are operating our integrated substance dependence solutions for third-party payors in Kansas, Louisiana, Massachusetts, Nevada, and Oklahoma. In March 2013, we signed a national agreement with a national health plan to provide the OnTrak program to their commercial members starting in New Jersey. In June 2013, we signed an agreement with a national health plan to provide services to their individually enrolled Medicare Advantage members in Ohio, West Virginia, Kentucky, and Indiana. Implementation is under way and we have launched enrollment in Kentucky and West Virginia in October 2013 and we expect to commence enrollment in the remaining states by the end of the fourth quarter of 2013. However as our customers control significant portions of implementation, there are no assurances that commencement will not be delayed. Together these two contracts are expected to more than quadruple the number of members covered by our OnTrak programs.We believe that our Catasys offerings will address a high cost segment of the healthcare market for substance dependence, and we are currently marketing our Catasys integrated substance dependence solutions to managed care health plans on a case rate, or monthly fee or fee-for-service basis, which involves educating third party payors on the disproportionately high cost of their substance dependent population and demonstrating the potential for improved clinical outcomes and reduced cost associated with using our Catasys programs.
We currently manage, under a licensing agreement, one professional medical corporation located in Los Angeles, California (dba The Center to Overcome Addiction). We manage the business components of the professional medical corporation and license thea proprietary treatment program in exchange for management and licensing fees under the terms of full business service management agreements. The professional medical corporation offers medical and psychosocial interventions for substance dependencies and mental health disorders. The revenues and expenses of this center are included in our condensed consolidated financial statements under accounting standards applicable to variable interest entities. In July 2012, we moved the professional medical corporation offices into our corporate offices, which we anticipate will reducereduced operating expenses, inand as of November 2013 the future.majority of services are being delivered telephonically. We expect revenues associated with the treatment centers to continue to decline and are currently evaluating and considering additional actions to streamline our operations that may impact the managed treatment center.
RESULTS OF OPERATIONS
Table of Summary Consolidated Financial Information
The table below and the discussion that follows summarizes our results of consolidated operations for the three and nine months ended September 30, 20122013 and 2011:
| (In thousands, except per share amounts) | Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||
| 2012 | 2011 | 2012 | 2011 | |||||||||||||
| Revenues | ||||||||||||||||
| Healthcare services revenues | $ | 100 | $ | 3 | $ | 226 | $ | 13 | ||||||||
| License & Management services revenues | 40 | 54 | 136 | 194 | ||||||||||||
| Total revenues | 140 | 57 | 362 | 207 | ||||||||||||
| Operating expenses | ||||||||||||||||
| Cost of services | 197 | 161 | 618 | 428 | ||||||||||||
| General and administrative | 1,946 | 2,376 | 6,629 | 8,329 | ||||||||||||
| Impairment losses | - | - | 189 | - | ||||||||||||
| Depreciation and amortization | 69 | 85 | 227 | 266 | ||||||||||||
| Total operating expenses | 2,212 | 2,622 | 7,663 | 9,023 | ||||||||||||
| Loss from operations | (2,072 | ) | (2,565 | ) | (7,301 | ) | (8,816 | ) | ||||||||
| Interest and other income | - | - | - | 4 | ||||||||||||
| Interest expense | (1 | ) | (224 | ) | (2,697 | ) | (923 | ) | ||||||||
| Loss on debt extinguishment | - | - | - | (41 | ) | |||||||||||
| Change in fair value of warrant liability | 1,818 | 464 | 4,127 | 8,465 | ||||||||||||
| Loss before provision for income taxes | (255 | ) | (2,325 | ) | (5,871 | ) | (1,311 | ) | ||||||||
| Provision for income taxes | 2 | 2 | 18 | 11 | ||||||||||||
| Net Loss | $ | (257 | ) | $ | (2,327 | ) | $ | (5,889 | ) | $ | (1,322 | ) | ||||
| Basic and diluted net income (loss) per share:* | ||||||||||||||||
| Net loss per share* | $ | (0.00 | ) | $ | (0.11 | ) | $ | (0.12 | ) | $ | (0.08 | ) | ||||
| Weighted number of shares outstanding* | 59,080 | 21,205 | 48,021 | 17,346 | ||||||||||||
(In thousands, except per share amounts) Three Months Ended September 30, Nine Months Ended September 30, 2013 2012 2013 2012 Revenues Healthcare services revenues License and management services revenues Total revenues Operating expenses Cost of services General and administrative Impairment losses Depreciation and amortization Total operating expenses Loss from operations Interest and other income Interest expense Change in fair value of warrant liability Income/(Loss) from operations before provision for income taxes Provision for income taxes Net Income/(Loss) Basic and diluted net income (loss) per share:* Basic net income (loss) per share* Basic weighted number of shares outstanding* Diluted net income (loss) per share* Diluted weighted number of shares outstanding* $ 109 $ 100 $ 315 $ 226 21 40 83 136 130 140 398 362 221 197 628 618 1,415 1,946 4,651 6,629 - - - 189 42 69 131 227 1,678 2,212 5,410 7,663 (1,548 ) (2,072 ) (5,012 ) (7,301 ) - - - - (1 ) (1 ) (771 ) (2,697 ) 2,231 1,818 2,607 4,127 682 (255 ) (3,176 ) (5,871 ) 2 2 5 18 $ 680 $ (257 ) $ (3,181 ) $ (5,889 ) $ 0.05 $ (0.04 ) $ (0.24 ) $ (1.23 ) 14,286 5,908 13,429 4,802 $ 0.04 $ (0.04 ) $ (0.24 ) $ (1.23 ) 19,364 5,908 13,429 4,802
* | The financial statements have been retroactively restated to reflect the 10-for-1 reverse stock splitthat occurred on May 6, 2013. |
* The financial statements have been retroactively restated to reflect the 40-for-1 reverse stock split that occurred on September 6, 2011.
We had a net income from continuing operations before provision for income taxes of $682,000 and a net loss of $257,000 for the three months ended September 30, 2013 and 2012, respectively. The netdifference primarily relates to the increase in the gain on the fair value of warrants of $413,000 and the decrease in operating expense of $534,000. We had a $3.2 million and $5.9 million loss from continuing operations before provision for income taxes was $257,000tax for the nine months ended September 30, 2013 and $5.92012. The reduction in net loss primarily relates to the decrease in operating expenses of $2.3 million, the reduction of interest expense of $1.9 million, offset by a decrease in the gain on the fair value of warrants of $1.5 million.
Revenues
As of September 30, 2013, five healthcare services contracts were operational covering a significant increase in the number of patient’s being treated during the same period in 2012. In the three and nine months ended September 30, 2012, compared to a net loss of $2.3 million2013, enrollment increased 133% and $1.3 million for82%, respectively, over the same periods in 2011, respectively. The change was primarily due to the change in fair value of warrants from $464,000 to $1.8 million for the three months ended September 30, 2012 and 2011, respectively, and a change from $8.5 million to $4.1 million for the nine months ended September 30, 2012 and 2011, respectively. In addition, there was interest expense of $1,000 and $2.7 million for the three and nine months ended September 30, 2012, compared to $224,000 and $923,000 for the same periods in 2011, respectively. The interest expense relates to the bridge loan financing and the issuance of warrants during 2012. This was partially offset by a decrease of $430,000 and $1.7 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, in general and administrative expenses, resulting mainly from actions taken to streamline our operations.
Revenues decreased by $14,000$19,000 and $58,000$53,000 for the license and management services segment, for the three and nine months September 30, 2012,2013, respectively, compared towith the same periods in 2011,2012 due to a decrease in number of patient visits at the managed physician practice primarily related to the move of the treatment office as well as continuing to decrease resources allocated to the practice. We anticipate that revenue associated with this segment will continue to decrease as we continuedcontinue to focus on our healthcare services segment and reposition ourselves in the marketplace. We anticipate that revenue from this segment will continue to decrease in the future.
Cost of Healthcare Services
Cost of healthcare services consists primarily of salaries related to our care coaches, healthcare provider claims payments, and fees charged by our third party administrators for processing these claims. The increase of $107,000$24,000 and $162,000$10,000 for the three and nine months ended September 30, 2012, respectively,2013, compared towith the same periods in 2011,2012, relates primarily to the increase in enrolled members being treated, the mix in members treated, and the OnTrak program.
General and Administrative Expenses
Total general and administrative expense decreased by $430,000$531,000 and $1.7$2.0 million for the three and nine months ended September 30, 2012,2013, respectively, compared towith the same periods in 2011.2012. The decrease was due primarily to reductionsa reduction in allshare-based compensation expense categories, but primarily due to salaries and benefits and outside services, resulting fromas a result of a majority of our stock options becoming fully vested at the continued streamliningend of operations to focus on managed care opportunities in our healthcare services segment.
Impairment Losses
We recorded $0 andhad no impairment losses during the first nine months of 2013 compared with $189,000 in impairment charges related to intellectual property for the three and nine months ended September 30, 2012, respectively. There were no impairment losses related to intellectual property for same periodsperiod in 2011.
There was no impairment loss related to property plant and equipment for the three and nine months ended September 30, 20122013 and 2011.
Interest Expense
Interest expense increased/(decreased)was flat for the three months ended September 30, 2013 and decreased by $(223,000) and $1.8$1.9 million for the three and nine months ended September 30, 2012, respectively,2013 compared with the same period in 2013 due to the same periods in 2011 due to interest recorded on theconversion of note payables issued in association with the bridge financing in February 2012 which convertedto equity that occurred in April 2012 as well as the warrants issued related in the same transaction.
Change in fair value of warrant liability
We issued warrants to purchase shares of our common stock in November 2007, July 2010, October 2011,2010, November 2010, December 2011, February 2012, April 2012, May 2012, September 2012, December 2012, April 2013, and thewhen we amended and restated the Highbridge warrantssenior secured note in July 2008. The warrants are being accounted for as liabilities in accordance with Financial Accounting Standards Board (“FASB”)FASB accounting rules, due to provisions in some warrants that protect the holders from declines in our stock price and a requirement to deliver registered shares upon exercise of the warrants, which is considered outside our control. The warrants are marked-to-market each reporting period, using the Black-Scholes pricing model, until they are completely settled or expire.
The change in fair value of the warrants increased by $1.4 million$413,000 and decreased by $4.3$1.5 million for the three and nine months ended September 30, 2012,2013, respectively, compared towith the same periods in 2011. This was mainly due to a drop in the price of our common stock.
We will continue to mark the warrants to market value each quarter-end until they are completely settled.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity and Going Concern
As of November 14, 2012,13, 2013, we had a balance of approximately
In April 2012,2013, we entered into securities purchase agreements with several investors, including Crede CG II, Ltd. (formerly Socius Capital Group, LLC) (“Crede”), an affiliate of Terren S. Peizer, our Chairman and Chief Executive Officer of the Company, and David Smith, oneShamus, LLC, an affiliate of our affiliates,the Company, relating to the sale and issuance of an aggregate of 21,440,050
In September 2012,October 2013, we entered into securities purchase agreements with several investors, including Crede CG III, Ltd., an affiliate of Terren S. Peizer, Chairman and David Smith,Chief Executive Officer of the Company, and Shamus LLC, an affiliate of the Company, relating to the sale and issuance of an aggregate of 17,190,000
We have a related party receivable from Sabra ICG,Xoftek, Inc., an affiliate of Terren S. Peizer, our Chairman and Chief Executive Officer, in the amount of $142,000$269,000 at September 30, 2012,2013, which represents unpaid monthly rent related to a January 1, 2011 sublease agreement.
Our ability to fund our ongoing operations and continue as a going concern is dependent on signingincreasing fees from existing contracts, successfully implementing and enrolling members under our two new contracts, and signing and generating fees from existing and newadditional contracts for our OnTrakCatasys managed care programs and the success of management’s plans to increase revenue and continue to control expenses. We are currently operating our programs in Kansas, Kentucky, Louisiana, Oklahoma, Massachusetts, Nevada, and Oklahoma. We will continueWest Virginia. In March 2013, we signed a national agreement with a national health plan to provide the OnTrak program to their commercial members starting in New Jersey. In June 2013, we signed an agreement with a national health plan to provide services to their individually enrolled Medicare Advantage members in Ohio, West Virginia, Kentucky, and Indiana. Implementation is under way and we expect to commence enrollment for both new contracts by the end of the fourth quarter of 2013, however as our customers control significant portions of implementation, there are no assurances that commencement will not be paid for enrolled members. delayed. We are generating fees from the launched programs, andwe have increased these fees induring the first nine months of 2012. We2013 over the same period in the prior year, and we expect to continue to increase enrollment and fees throughout the year. We have agreed with one offrom our customers to expand our program in Kansas which we anticipate will significantly increase the size of the population covered in that state beginning in the fourth quarter ofprograms throughout this year. ThereHowever, there can be no assurance that we will generate additionalsuch fees. In addition, we have continued to try to findseek areas to reduce our operating expenses.
In addition, we and our Chief Executive Officer are party to a litigation in which the plaintiffs assert causes of action for conversion, a request for an order to set aside fraudulent conveyance and breach of contract. While we recently received judgment in our favor,believe the plaintiffs’ may appeal these judgments. We believe the claims are without merit and we intend to continue to vigorously defend the case, there can be no assurance that the litigation will be resolved in our favor. If this case is decided against us or our Chief Executive Officer, it may cause us to pay substantial damages, and other related fees. Regardless of whether this litigation is resolved in our favor, any lawsuit to which we are a party will likely be expensive and time consuming to defend or resolve. Costs of defense and any damages resulting from litigation, a ruling against us or a settlement of the litigation could have a significant negative impact on our liquidity, including our cash flows.
Cash Flows
We used $4.5$4.3 million of cash for continuing operating activities during the nine months September 30, 20122013 compared to $5.1with $4.5 million in 2011. Use of funds in operating activities, primarily includes cost of healthcare services and general and administrative expenses. This decrease in net cash used reflects the decline in such expenses from our efforts to streamline operations and the increase in cash collected from our OnTrak contracts with health plans. Non-cash2012. Significant non-cash adjustments to operating activities for the nine months ended September 30, 2012,2013 included share-based compensation expense of $165,000, depreciation and amortization of $131,000, amortization of debt discount and debt issuance costs of $2.7 million, a non-cash charge of $2.0 million for share-based compensation expense,$769,000, and a fair value adjustment on warrant liability of $4.1 million, depreciation and amortization expense of $227,000, and impairment losses of $189,000.
Capital expenditures for the nine months ended September 30, 20122013 were not material. Our future capital expenditure requirements will depend upon many factors, including progress with our marketing efforts, implementationthe time and costs involved in preparing, filing, prosecuting, maintaining and enforcing patent claims and other proprietary rights, the necessity of, new customers, the needand time and costs involved in obtaining, regulatory approvals, competing technological and market developments, and our ability to replace computer and communications equipment, andestablish collaborative arrangements, effective commercialization, marketing activities and other arrangements.
Our net cash provided by financing activities was $5.3$1.5 million for the nine months ended September 30, 2012,2013, compared towith net cash provided by financing activities of $599,000$5.3 million for the nine months ended September 30, 2011.2012. Cash provided by financing activities for the nine months ended September 30, 20122013 consisted of the exercise of warrants during the first quarter of 2013 and the net proceeds from the securities offerings in April 2012, May 2012, and September 2012,2013, leaving a balance of $1.5 million$422,000 in cash and cash equivalents at September 30, 2012.
OFF BALANCE SHEET ARRANGEMENTS
As of September 30, 2012,2013, we had no off-balance sheet arrangements.
CRITICAL ACCOUNTING ESTIMATES
The discussion and analysis of our financial condition and results of operations is based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). U.S. GAAP requires management to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities. We base our estimates on experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that may not be readily apparent from other sources. On an on-going basis, we evaluate the appropriateness of our estimates and we maintain a thorough process to review the application of our accounting policies. Our actual results may differ from these estimates.
We consider our critical accounting estimates to be those that (1) involve significant judgments and uncertainties, (2) require estimates that are more difficult for management to determine, and (3) may produce materially different results when using different assumptions. We have discussed these critical accounting estimates, the basis for their underlying assumptions and estimates and the nature of our related disclosures herein with the audit committee of our Board of Directors. We believe our accounting policies specific to the fair value of warrants, share-based compensation expense, and the impairment assessment for intangible assets, involve our most significant judgments and estimates that are material to our condensed consolidated financial statements. They are discussed further below.
Warrant Liabilities
We issued warrants to purchase common stock in November 2007, July 2010, October 2010, November 2010, August 2011, October 2011, November 2011, December 2011, February 2012, April 2012, May 2012, September 2012, December 2012, April 2013, and when we amended and restated the Highbridge warrantsenior secured note in July 2008. The warrants are being accounted for as liabilities in accordance with FASB accounting rules, due to provisions in some warrants that protect the holders from declines in our stock price and a requirement to deliver registered shares upon exercise of the warrants, which is considered outside our control. The warrants are marked-to-market each reporting period, using the Black-Scholes pricing model, until they are completely settled or expire.
For the three and nine months ended September 30, 2012,2013, we recognized a non-operating gain of $2.2 million and $2.6 million, compared with a non-operating gain of $1.8 million and $4.1 million compared to a non-operating gain of $464,000 and $8.5 million for the same period in 2011,2012, related to the revaluation of our warrant liabilities.
Share-based compensation expense
We account for the issuance of stock, stock options, and warrants for services from non-employees based on an estimate of the fair value of options and warrants issued using the Black-Scholes pricing model. This model’s calculations include the exercise price, the market price of shares on grant date, weighted average assumptions for risk-free interest rates, expected life of the option or warrant, expected volatility of our stock and expected dividend yield.
The amounts recorded in the financial statements for share-based compensation expense could vary significantly if we were to use different assumptions. For example, the assumptions we have made for the expected volatility of our stock price have been based on the historical volatility of our stock, measured over a period generally commensurate with the expected term. If we were to use a different volatility than the actual volatility of our stock price, there may be a significant variance in the amounts of share-based compensation expense from the amounts reported. Based on the 2011 assumptions used for the Black-Scholes pricing model, a 50% increase in stock price volatility would have increased the fair values of options by approximately 25%. The weighted average expected option term for the three and nine months ended September 30, 2012,2013, reflects the application of the simplified method set out in SEC Staff Accounting Bulletin No. 107, which defines the life as the average of the contractual term of the options and the weighted average vesting period for all option tranches.
From time to time, we have retained terminated employees as part-time consultants upon their resignation from the Company. Because the employees continued to provide services to us, their options continued to vest in accordance with the original terms. Due to the change in classification of the option awards, the options were considered modified at the date of termination. The modifications were treated as exchanges of the original awards in return for the issuance of new awards. At the date of termination, the unvested options were no longer accounted for as employee awards and were accounted for as new non-employee awards. The accounting for the portion of the total grants that have already vested and have been previously expensed as equity awards is not changed. There were no employees moved to consulting status for the three and nine months ended September 30, 2012.
Impairment of Intangible Assets
We have capitalized significant costs for acquiring patents and other intellectual property directly related to our products and services. We review our intangible assets for impairment whenever events or circumstances indicate that the carrying amount of these assets may not be recoverable. In reviewing for impairment, we compare the carrying value of such assets to the estimated undiscounted future cash flows expected from the use of the assets and/or their eventual disposition. If the estimated undiscounted future cash flows are less than their carrying amount, we record an impairment loss to recognize a loss for the difference between the assets’ fair value and their carrying value. Since we have not recognized significant revenue to date, our estimates of future revenue may not be realized and the net realizable value of our capitalized costs of intellectual property or other intangible assets may become impaired.
During the three and nine months ended September 30, 2012,2013, we did not acquire any new intangible assets and atas of September 30, 2012,2013, all of our intangible assets consisted of intellectual property, which is not subject to renewal or extension. At December 31, 2011, we determined that the carrying value of certainWe had no intangible assets was not recoverable and exceeded the fair value based on the five-year revenue projections and other assumptions. We recorded impairment charges totaling $267,000 related to intellectual property for additional indications for the use of the PROMETA Treatment Program that is currently non-revenue generating. As of March 31, 2012, we determined that the remaining lives of certain intangibles exceeded their economic useful livesthree and therefore accelerated amortization and recorded annine months ended September 30, 2013. We had no intangible impairment charge of $34,000. Forfor the three months endingended September 30, 2012 we revisited our intentions to continue doing business internationally and concluded that we will not be pursing any international opportunities at this time. As such, we wrote off all intangibles related to our international Cayman entity and recorded an impairment loss of $155,000.$189,000 for the nine months ended September 30, 2012
Additionally, it is important to note that our overall business model, business operations and future prospects of our business have not changed materially since we performed the reviews and analysis noted above, with the exception of the timing and annualized amounts of expected revenue.
RECENT ACCOUNTING PRONOUNCEMENTS
In MayDecember 2011, the FASB issued Accounting Standards Update (“ASU”) 2011-04, Fair Value Measurement (“ASU 2011-04”), which amended ASC 820, Fair Value Measurements (“ASC 820”), providing a consistent definition and measurement of fair value, as well as similar disclosure requirements between U.S. GAAP and International Financial Reporting Standards. ASU 2011-04 changes certain fair value measurement principles, clarifies the application of existing fair value measurement and expands the disclosure requirements. ASU 2011-04 was effective for us beginning January 1, 2012. The adoption of ASU 2011-04 did not have a material effect on our condensed consolidated financial statements or disclosures.
In February 2013, the FASB issued ASU 2013-02,Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income, (“ASU 2013-02”). ASU 2013-02 amends ASC 220,Comprehensive Income (“ASC 220”), and requires entities to present the changes in the components of accumulated other comprehensive income for the current period. Entities are required to present separately the amount of the change that is due to reclassifications, and the amount that is due to current period other comprehensive income. These changes are permitted to be shown either before or net-of-tax and can be displayed either on the face of the financial statements or in the footnotes. ASU 2013-02 was effective for our interim and annual periods beginning January 1, 2013. The adoption of ASU 2013-02 did not have any impacta material effect on our consolidated financial position or results of operations or cash flows.operations.
In July 2012,2013, the FASB issued ASU 2012-02, Testing Indefinite-Lived Intangible Assets for Impairment2013-11,Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists, (“ASU 2013-02”), which amendedeliminates diversity in practice for the guidancepresentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss or a tax credit carryforward is available to reduce the taxable income or tax payable that would result from disallowance of a tax position. ASU 2013-11 affects only the presentation of such amounts in ASU 2011-08 to simplify the testing of indefinite-lived intangible assets other than goodwill for impairment. ASU 2012-02 becomesan entity’s balance sheet and is effective for annual and interim impairment tests performed for fiscal years beginning on or after SeptemberDecember 15, 20122013 and earlierinterim periods within those years. Early adoption is permitted. We do not expect this guidance to haveare evaluating the impact, if any, impactof the adoption of ASU 2013-11 on our consolidated financial position, results of operations or cash flows.balance sheet.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
Item 4. Controls and Procedures
Disclosure Controls
We have evaluated, with the participation of our principal executive officer and our principal financial officer, the effectiveness of our disclosure controls and procedures as(as defined in Rule 13a-15 and rule 15d-15(e) of the Securities Exchange Act of 1934, as amendedRules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this report.September 30, 2013. Based on this evaluation, our principal executive officer and our principal financial officer have determinedconcluded that as of September 30, 2012, our disclosure controls and procedures were effective.
Changes in Internal Control Over Financial Reporting
There arewere no changes in our internal controlcontrols over financial reporting forduring the three months ended September 30, 2012,2013, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting, as such term is defined in Rule 13a-15 and 15d-15(e) of the Securities Exchange Act of 1934, as amended.
PART II – OTHER INFORMATION |
On or about August 18, 2006, plaintiffs Isaka Investments, Ltd., Sand Hill Capital International Inc. and Richbourg Financial, Ltd. (the “Plaintiffs”(“Plaintiffs”) filed a complaint in the Los Angeles Superior Court, entitledIsaka Investments, Ltd., Sand Hill Capital International, Inc. and Richbourg Financial, Ltd. vs. Xino Corporation, an entity from which the Company had acquired certain assets, and a number of other additional individuals and entities, including the Company, the Company’s Chairman and Chief Executive Officer, Terren S. Peizer, and other members of the Company’s Board of Directors. The Board of Directors and other parties were dismissed by way of demurrer. In July 2007, Plaintiffs filed their second amended complaint, asserting causes of action for conversion, a request for an order to set aside an alleged fraudulent conveyance and breach of contract against the Company, Mr. Peizer, and others. In August 2007, the Company and Mr. Peizer, among others, filed an answer to the second amended complaint denying liability and asserting numerous affirmative defenses. In June 2008, the Company, Mr. Peizer, and others, filed a motion for summary judgment, or alternatively, summary adjudication, and in October 2008, the Court granted summary adjudication as to each cause of action and consequently summary judgment in favor of the Company and Mr. Peizer, among others. Plaintiffs appealed the summary judgment and in October 2010, the Court of Appeal reversed the trial court’s ruling. The Court of Appeal’s decision was not on the merits, but rather provides that there are sufficient material issues of fact for the case to be tried. The Court of Appeal issued a remittitur in December 2010, and Plaintiffs filed a motion for leave to amend the second amended complaint, which was granted in June 2011. In June 2011, Plaintiffs filed their third amended complaint and, in August 2011, in response to a demurrer filed by the Company, Mr. Peizer and others, the Court held that Plaintiffs' third amended complaint was not pled with sufficient specificity to state the causes of action alleged therein. In September 2011, Plaintiffs filed a fourth amended complaint, alleging causes of action for breach of fiduciary duty, fraudulent transfer, conversion, fraud, breach of contract, unfair business practices and wrongful interference with contractual relations and prospective business advantage. The Company filed a demurrer related to the fourth amended complaint in September 2011. At the hearing, the Court sustained, without leave to amend, the demurrers to the causes of action for breach of fiduciary duty and wrongful interference with contractual relations and prospective business advantage. In October 2011, the Company, Mr. Peizer and others, filed an answer to the fourth amended complaint, denying liability and asserting numerous affirmative defenses. In April 2012, the Court conducted a bench trial on the issue of whether the Plaintiffs have standing to pursue the causes of action alleged in their Fourth Amended Complaint other than the causes of action for conversion and breach of contract. At the conclusion of the trial, the Court ruled that Plaintiffs lack standing to pursue any causes of action other than for conversion and breach of contract. A Statement of Decision and Order of Dismissal was signed by the Court on July 18, 2012. Thereafter, the Plaintiffs filed an ex parte application to reopen the evidence which was denied by the Court. The Plaintiffs also filed a motion to amend their complaint seeking to add back in the claims that they lost at trial. The motion to amend was denied. On July 3, 2012, September 5, 2012 and October 15, 2012, the Plaintiffs filed Petitions for Writs of Mandate in the Court of Appeal. The Writs were summarily denied by the Court of Appeal. On October 9, 2012, the Court commenced hearings regarding the trial of the conversion and breach of contract causes of action. On October 15, 2012, the parties, through their counsel of record, stipulated to a bench trial on the admissibility and enforceability of a 2007 settlement agreement between Xino Corporation and the Company (the "Settlement Agreement"). Thus, the parties submitted the issue to the Court for a bench trial to determine whether the Settlement Agreement was admissible and effective to bar the two remaining claims. The Court held that the Settlement Agreement was admissible and enforceable to release the remaining claims. Accordingly, judgment will bewas entered in favor offor the Company and against the Plaintiffs. A proposed judgment wason November 19, 2012. Plaintiffs filed a notice of appeal on October 31,December 10, 2012. The Plaintiffsappeal has been fully briefed and an oral argument has been scheduled for December 11, 2013. The Company has had very limited settlement discussions and the Company believes Plaintiffs’ claims are expectedwithout merit and intends to appealcontinuously, and vigorously, defend the judgment.
Item 1A. Risk Factors
There have been no material changes in our risk factors from those disclosed in our most recent Annual Report on Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Not applicable.
Item 5. Other Information
In November 2013, we signed an office lease for new corporate offices located in Los Angeles, California.
Item 6. Exhibits
| Exhibit 10.1 | Office Lease between Catasys, Inc. and Trizec Wilshire Center, LLC, dated | |
Exhibit 31.1 | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
Exhibit 31.2 | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
Exhibit 32.1 | Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
Exhibit 32.2 | Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
101.INS | XBRL Instance | |
101.SCH | XBRL Taxonomy Extension Schema | |
101.CAL | XBRL Taxonomy Extension Calculation | |
101.DEF | XBRL Taxonomy Extension Definition | |
101.LAB | XBRL Taxonomy Extension Labels | |
101.PRE | XBRL Taxonomy Extension Presentation | |
SIGNATURES |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
CATASYS, INC. | ||
Date: November | By: | /s/ TERREN S. PEIZER |
Terren S. Peizer | ||
Chief Executive Officer (Principal Executive Officer) | ||
Date: November 13, 2013 | By: | /s/ SUSAN ETZEL |
Susan Etzel | ||
Chief (Principal | ||